Negative pledge is a provision in a
contract
A contract is an agreement that specifies certain legally enforceable rights and obligations pertaining to two or more parties. A contract typically involves consent to transfer of goods, services, money, or promise to transfer any of thos ...
which prohibits a party to the contract from creating any
security interest
In finance, a security interest is a legal right granted by a debtor to a creditor over the debtor's property (usually referred to as the '' collateral'') which enables the creditor to have recourse to the property if the debtor defaults in m ...
s over certain property specified in the provision.
Negative pledges often appear in security documents, where they operate to prohibit the person who is granting the security interest from creating any other security interests over the same property, which might compete with (or rank ''
pari passu
''Pari passu'' is a Latin phrase that literally means "with an equal step" or "on equal footing". It is sometimes translated as "ranking equally", "hand-in-hand", "with equal force", or "moving together", and by extension, "fairly", "without pa ...
'' with) the security of the first
secured creditor
A secured creditor is a creditor with the benefit of a security interest over some or all of the assets of the debtor.
In the event of the bankruptcy of the debtor, the secured creditor can enforce security against the assets of the debtor and avo ...
under the security document in which the negative pledge appears.
In Australia, negative pledge lending took off after a substantial deal by
Pioneer Concrete in 1978.
[ Trevor Sykes, ''The Bold Riders'', second edition, 1996, , pages 7-10] It was a new way of lending, which allowed the banks to lend to corporations, something previously the domain of life insurers.
Negative pledge clauses are almost universal in modern unsecured commercial loan documents. The purpose is to ensure that a borrower, having taken out an
unsecured loan, cannot subsequently take out another loan with a different lender, securing the subsequent loan on the specified assets. If the borrower could do this, the original lender would be disadvantaged because the subsequent lender would have first call on the assets in an
event of default.
The
World Bank
The World Bank is an international financial institution that provides loans and Grant (money), grants to the governments of Least developed countries, low- and Developing country, middle-income countries for the purposes of economic development ...
's negative pledge clause prohibits borrowing countries from using public assets to pay other creditors before repaying the World Bank.
[{{Cite book , last=Chen , first=Muyang , title=The Latecomer's Rise: Policy Banks and the Globalization of China's Development Finance , date=2024 , publisher=]Cornell University Press
The Cornell University Press is the university press of Cornell University, an Ivy League university in Ithaca, New York. It is currently housed in Sage House, the former residence of Henry William Sage. It was first established in 1869, maki ...
, isbn=9781501775857 , location=Ithaca and London , pages=134 , jstor=10.7591/jj.6230186
See also
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Second lien
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Seniority
Seniority is the state of being older or placed in a higher position of status relative to another individual, group, or organization. For example, one employee may be senior to another either by role or rank (such as a CEO vice a manager), or by ...
*
Pari passu
''Pari passu'' is a Latin phrase that literally means "with an equal step" or "on equal footing". It is sometimes translated as "ranking equally", "hand-in-hand", "with equal force", or "moving together", and by extension, "fairly", "without pa ...
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Senior debt
In finance, senior debt is debt that takes priority over other unsecured or otherwise more "junior" debt owed by an issuer. Senior debt is frequently issued in the form of senior notes or referred to as senior loans. Senior debt has greater senior ...
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Subordinated debt
In finance, subordinated debt (also known as subordinated loan, subordinated bond, subordinated debenture or junior debt) is debt which ranks after other debts if a company falls into liquidation or bankruptcy.
Such debt is referred to as 'subord ...
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Secured creditor
A secured creditor is a creditor with the benefit of a security interest over some or all of the assets of the debtor.
In the event of the bankruptcy of the debtor, the secured creditor can enforce security against the assets of the debtor and avo ...
*
Unsecured creditor
References
Contract law
Contract clauses